Is it too late to step back from the edge of fiscal insanity?

Chris Edwards on the Deficit

In 2020, Federal spending broke the $5 trillion barrier for the first time. In fact, it smashed through it — rising from $4.5 to $6.6 trillion. Compare that to 2009 — the year of the stimulus package — when spending rose just $500 billion over the previous year, and you will get a sense for just how deep the rabbit hole now goes.

Chris Edwards is my go-to guest for all matters related to government spending. As director of tax policy for the Cato Institute and head of the Downsizing Government project, Edwards has put federal spending into context. This Sunday, he joins the program to help me and my listeners recover from the sense of vertigo — standing on the precipice — as we await the inevitable rise in taxes in the decades to come.


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Bob Zadek: Good morning, everyone. Welcome to the Bob Zadek Show. We are this morning — and always — the show of ideas, never of attitude. Thank you so much for listening this Sunday morning. The topic for the show this morning is a foreboding topic. We will look forward a couple of weeks to when the Biden administration moves in and the Trump administration moves out. Hopefully, they leave the silverware, unlike the Clintons. Once the Biden administration is in office, they will set about the exhausting task of raising and then spending a cool 7 trillion in carrying out the Biden worldview. Where will they get $7 trillion? That is the topic of this morning show. And of course, they will get it from you and I. It is not pretty to help us understand what is in store for us.

I’m happy to welcome back to the show my good friend and very wise scholar on these matters, Chris Edwards. Chris is the director of tax policy over at the Cato Institute. He heads the downsizing government project. Wouldn’t we all love downsizing government? Chris has given lots and lots of thought to what is in store for us with the Biden administration. Welcome to the show this morning.

Chris Edwards: Thanks a lot, Bob. I must say that our downsizing government website was named when Obama first came into office in 2008. He promised to go through the federal budget and cut out all the wasteful programs and so we created a downsizing government to help his administration out. Of course, he didn’t cut wasteful programs at all. Today, Biden is coming into office and not promising to cut or trim in any way. Instead, he is promising to spend.

Bob Zadek: Well, you have to respect Biden for at least being honest about it. The subject, broadly, is the deficit. The concept of “deficit” simply means that the government spends more than it takes in. I also hate the phrase “income” when you’re talking about the government, because income is something praiseworthy, like you have earned it. The government does not earn any income, it simply takes it at the point of a gun. Deficit is when the income into the federal government is less than the outflow. It is the difference between spending and income that is borrowed. In other words, future generations will pay for it.

The Deepening Deficit: A Disaster Waiting to Happen

Bob Zadek: Tell us about the dangers of the increasing deficit and the growing amount of debt, which never goes down. Why can we project this? Tell us about what you believe will happen at some point in time, if the government continues to spend more than it takes in?

Chris Edwards: The easy way to understand how disastrous the situation we are in is that this year, the current projections show that the federal government will spend 5.1 trillion and it will take in 3.3 trillion in taxes. So, you can see that there is a giant deficit of around 1.8 trillion. Let’s translate that to an individual worker. That’s like an individual worker earning $33,000 a year, but spending $51,000 a year, and borrowing 18,000 every year to support his spending habits. Obviously, you can see for an individual, if they are only making 33 grand a year, and they are spending 51 a year, they are going to go bankrupt very quickly. Well, that is what the federal government is doing.

It has been spending all this so-called stimulus money recently. Even when we get back to normal a year or two from now, the government is only going to be taxing about 75% of what it spends. Currently, the federal government accumulated debt is equal to about 100% of our GDP. And that is the highest it has ever been in over 200 years of history.

The previous high was in World War Two, when it hit about the same amount — about 100% of GDP. In prior debt spikes, we have always paid it back. After the Civil War, we pay the debt back and after World War One and World War Two, we always pay the debt back. But today, government debt is spiking even though we’re not at war, and the projection of debt is on this skyrocketing upward path. It is a unique place in American history. It is not going to last — we are going to get a financial crisis of some sort or a massive and disastrous tax hike of some sort down the road. Economists can’t tell us when it’s going to happen, but it is going to happen.

A Comparison: Greece’s Death Spiral

Bob Zadek: You made the obvious and accurate analogy to an individual. You said that if an individual keeps on incurring debt sooner or the individual would go bankrupt. The individual goes bankrupt, not directly, but rather because the creditors stop extending credit. So, in your hypothetical if that individual were able to continue to roll over the debt then they would never go bankrupt. The individual just encouraged more and more and more and more debt and it is only theoretical. Tell me about how some entity or group of people say, “No more, we are cutting you off, we are not going to give you more credit.” We never experienced that before or even read about it. What would that look like?

Chris Edwards: Right now, the federal government can borrow at very low interest rates. I don’t think that is going to last. A lot of economists seem to think borrowing is okay because they assume that the interest rate will stay low for years and years into the future. The current Congressional Budget Office projection assumes the 10-year treasury bonds stay at around 3% over the next decade. Historically, however, we can see that when countries get into a crisis, they start accumulating too much debt and creditors around the world get scared and interest rates spike, and the creditors demand a lot higher interest rates from the borrowers. That is how the crisis will happen. We will start seeing interest rates start rising.

As we saw in Greece a decade ago, the government borrowing rates spike and then interest payments become a much bigger share of the government budget. It becomes a death spiral because the government has to borrow more and more to cover all the $6 trillion of spending and creditors can see that the government is getting more and more in trouble so they demand higher and higher interest rates, and as the interest rates are spiking the economy tanks because industries like the housing industry are very interest rate dependent. If interest rates start rising, the housing industry will tank, business investments will plunge because businesses won’t be able to borrow money because interest rates will be high, and the exchange rate will start falling. Foreign creditors won’t want to lend to American businesses, let alone the American government, because the exchange rates have fallen. It is an economically disastrous situation.

Then Washington has only two choices. They would have to either radically cut spending, such as people’s social security benefits or Medicare, or taxes will be hiked dramatically. Capital gains taxes and corporate taxes will be hiked and that will cause the death spiral to spiral even faster. So, businesses will face higher taxes and higher borrowing rates and they will be in a terrible situation. They’ll have to cut back their operations and lay people off. We see that it is a death spiral. We have seen that in countries like Greece.

And if you look at a decade or so ago when Greece got into government debt caused a crisis, the economy plunged for years and interest rates went up to 15 or more percent for years. The private sector was killed. A decade later, the Greeks living standards were still down 20% or more from 15 years earlier. It will cause permanent lasting damage if we let this crisis happen. Economists don’t know when this is going to happen. We have seen it happen in other countries like Puerto Rico and it could very well happen to the US federal government, but we just don’t know when.

Is the United States “Too Big to Fail?”

Bob Zadek: There is a concept that nobody has mentioned in the narrative you have described. I’m about to mention it since nobody has mentioned it. That leads me to believe that I probably don’t know what I’m talking about. During the last financial crisis and financial crises before that, we have heard the phrase “too big to fail.” It was applied first to Continental Bank in Chicago, when that was the first major bank to fail. I think that was in the 70s, if I’m not mistaken. It was applied, of course, to large brokerage houses and investment during the financial crisis early in the 21st century. Banks were felt to be too big to fail.

There would be a systemic failure in the old economy if these entities failed. That means that since the failure of a bank or several banks would bring down the whole economic system, nobody was going to allow those banks to fail. If a bank is too big to fail, isn’t the United States too big to fail? And wouldn’t the world have to bail us out, extend our debt on the condition that we get our house in order? Does that principle have any impact on your dire predictions?

Chris Edwards: The worry is not that the US federal government is not that it will go bankrupt– it won’t go bankrupt. The problem is that it creates an economic death spiral. The higher they raise taxes, the more it kills the private sector, the less revenues flow into Washington because the private sector is shrinking. So that’s the real fear here. Interest rates will spike. The interest costs that the federal government pays, will start rising. For example, this year, the federal government is going to spend about 350 billion on interest costs, but that could easily become much, much higher. They could double or triple. The federal government has got to find this new fresh money somewhere. The fear is that they will do these tax hikes on us which will kill the private sector, which will kill our standard of living.

There is also the threat of inflation which we have seen historically around the world. Governments start borrowing too much credit or start getting worried and interest costs rising, a seemingly easy way out is to start inflating the value of your currency, which reduces the real value of your debt. So that is a threat because we might have a government and central bank that follows an inflationary policy to try to reduce the real value of debt. Inflation is a tax on working people on average. Rich people can get around the inflation problem, but it is the rest of us regular folks, when the price of food and clothing and housing start rising quickly, which will end up being a giant tax on us. One way or another it is going to result in the US paying higher taxes in the form of an inflation tax.

Capital Gains Tax Hikes: Potential Cause of Reduced Investments

Bob Zadek: Based upon what we know now, what scares you the most about Biden’s taxing and spending approach?

Chris Edwards: The first is that we are in this bizarre situation where the federal government spends more than a trillion more each year than it raises in revenue. So the logical and prudent thing to do for an incoming administration would be to start reducing that spending amount so we can balance our budget. We are spending over 5 trillion a year, we’re only raising just over 3 trillion a year. It’s a crazy unbalanced situation. We should be reducing spending, but Biden wants to spend about 7 trillion more. 2 trillion or so on infrastructure, 600 billion on housing. He wants to raise Social Security benefits, even though the Social Security system is already in terrible trouble. He wants to spend more than a trillion more on government health care, new entitlement programs for paid leave and on and on.

It’s not like the federal government is just going to give the state another $2 trillion further schools. It is going to come with strings attached. So essentially, Biden is promising to micromanage our schools. For taxes, he is promising higher corporate taxes, and he’s promising to double the capital gains tax and rate from around 20% to 40%. Here’s why this is dangerous. The American high tech economy in Silicon Valley depends upon low capital gains taxation, because the return to all these new innovative startup companies is a capital gain. This doubling of the capital gains tax would kill Silicon Valley and it would kill America’s high tech innovation industries.

I do not understand why there isn’t more of an outcry from Silicon Valley in the tech industry, about these proposed Biden plans for capital gains. He would raise taxes on high earners across the board. He has regulatory plans. The radical and extreme green economy, which will raise taxes on energy, which is going to hit average working families across the board. He’s got all kinds of big government labor union plans to repeal Right to Work laws and promote collective bargaining, which are coercive labor union laws, which I think would be really bad for the US private economy as well. Everything he is proposing would be damaging to the private sector. It is a disastrous plan ahead.

Bob Zadek: You have written about the capital gains tax. The low capital gains tax rate we have now basically imposes a lower level of taxation on income earned on an asset that you owned for a period of time, and when you sell that asset at a profit, you pay less of a tax. It is felt that that lower tax encourages investment. But Chris, I have read a lot about the capital gains tax rate, and while it will make investing less attractive, if you invest and if you’re right, you will make a profit. How clear is it that once the capital gains tax rate is increased, there will be a meaningful reduction in investment? Putting it another way, how much of the investing in Silicon Valley only takes place today because of low tax rates, as opposed to investing because of the possibility of making buckets of money albeit it being taxed at a higher rate?

Chris Edwards: I think people have a biased view of Silicon Valley because we are all aware of the big successful hit companies, whether it’s the Facebooks or the Googles, or the Amazons. The reality of Silicon Valley is that a lot of people, mainly wealthy people, angel investors and venture capitalists pump enormous amounts of money into highly risky startups. Only one in 10 of their investments become big hits, while most of them fail.There’s a giant graveyard in Silicon Valley of companies that failed.

So why do the venture capitalists and the angel investors pump all that money into all these highly risky companies when the alternative is they could put money into safe investments, like standard industrial stocks in the s&p 500. Rich people could put their money into tax free Muni-bonds, for example. They put their money into highly risky startups in Silicon Valley for the chance that maybe five or six years down the road their company will become a big hit. And if it’s a big hit, there is a big capital gain benefit. The current federal capital gains tax rate is 24%. Biden wants to raise it to around 40%. It becomes a lot riskier to put your money into those highly unlikely and uncertain investments in tech stocks if the tax rate goes up that high.

Here’s one bit of evidence. Every major industrial country in Europe, Canada, Australia, etc, have much lower capital gains tax rates. There’s been a general understanding by finance experts around the world that you need to have a low capital gains tax rate if you want an innovative technology industry.

Infrastructure Spending = More Federal Government Waste

Bob Zadek: You write a lot about infrastructure. From an economic standpoint, why do you rail against infrastructure?

Chris Edwards: The first thing to know but infrastructure is that the vast majority of infrastructure in America is actually owned by the private sector. Whether you’re talking gas pipelines, or you know, electric utilities, semiconductor factories, cell phone towers, etc. The second thing is that the vast majority of government infrastructure is actually owned by state and local government, not the federal government. America’s entire highway system is owned by state and local governments, not the federal government. Even the interstate highway system. It’s entirely owned by the state government.

If people think there are potholes in the highways, their state government is entirely capable of raising taxes to find the money to fill those potholes or repurposing other spending to fill those potholes. The solution doesn’t have to come from Washington. People should look to their state government to fix infrastructure problems within their state. The problem is that if you get Washington involved, they put all kinds of strings attached on the spending. The money tends to be a pork barrel that goes to the states with the powerful congressmen, rather than the states that really need it. There is a huge amount of general waste in Washington.

A lot of the money gets stuck in the expensive bureaucracies in Washington, rather than being redistributed out to the States. The federal government tends to spend on wasteful infrastructures like light rail systems, rather than what Americans want, like expanded highway systems. So the solution to infrastructure is not in big government, it is in the private sector. The last thing we need is more federal government tentacles controlling where the investments go.

Bob Zadek: Your problem is not with the amount of infrastructure spending, it is with who does the spending. It’s up to the state to decide how to spend its money. Your opposition to infrastructure as a concept is the fact that the federal government does the spending, which means the decision as to where money is spent and how it is spent, is decided politically.

Chris Edwards: Think about cell phone towers or the internet. There is no public policy discussion about how much cell phone tower investment we need, because private companies will simply look at demand from their consumers and they invest in appropriate amounts. The same thing is true with electric utilities. The problem in government sectors like passenger rail, which is run by Amtrak, is that the government has got a monopoly. All airports in America are owned by the government. How much to invest therefore becomes this political issue like you said. but it doesn’t have to be that way.

The first thing we should do is we should look at assets that the government owns and move them to the private sector. Most airports in Europe are private. If you fly into Heathrow Airport, in London, you’re flying into a private airport. You fly into any airport in Canada, you are flying into a private airport. So that’s the first thing to do. Trump actually made this point, that a lot of American airports are actually poorly run and mismanaged. The reason is because they are in the government sector. We need to look at assets that we can move to the private sector.

There’s a lot of stuff that we do in government in America that other countries that move to the private sector. Another example is air traffic control. People might think that is a government function. There’s a lot of there’s a lot of fights in Washington over how inefficient our air traffic control system is. It’s not investing enough to keep up with new technologies. And that’s true. But both Britain and Canada have privatized their systems. It is funded by fees on airlines, and the system works really well and their systems are more advanced than ours today. We need to think about infrastructure this way; we need to think about how the private sector invests the appropriate amount to fulfill customer demand, which assets can we take like airports or the passenger rail system to move to the private sector so that it gets the appropriate level of capital investment.

Bob Zadek: When we were talking about air traffic control, my brain imagined the democratic socialists complaining that passenger safety is too important to be left to the profit motives, claiming that private business will cut corners chasing the holy grail of increased profits, and we will suffer from a safety standpoint, forgetting full well that government is free to set the standards. People lose track of the fact that having the private sector do it doesn’t mean there is no role for government.

Government is not bad at setting standards and providing information to consumers. They’re very bad at actually delivering the service. Have the government set the standards, but then allow private business to carry out the contract with the government in accordance with standards, just the way a contractor builds your house, according to your agreed upon standards. You can apply what you just said about air traffic control to so many areas of the economy, where the government is the provider, like the post office, schools, health care and the like. That’s my takeaway from your very good example of air traffic control.

Taxes, taxes, and more taxes…

Bob Zadek: How does Biden intend to make up for the 7 trillion? Does he have a plan to pay for it?

Chris Edwards: He proposes all these tax increases to pay for his spending. He promises to raise the corporate income tax, and he promises to raise the tax rates on higher income individuals, although that is a bit of a false promise, because with all this spending, he’s ultimately going to have to raise taxes on everyone. I think the big fear going ahead is that the federal government’s going to get so short of cash, they are going to want to impose and impose a new broad based tax that hits everyone.

Either a European style value-added tax, which is a tax on all consumption that everyone does, or a giant new carbon tax, which is the sort of the trendy thing amongst centrist and liberal economists. They want a carbon tax that would hit all energy costs in the economy. Ultimately, all this spending I think is going to lead to new broad based taxes on everyone. However, I think all these tax increases will be really damaging to the economy.

Chris Edwards: A lot hangs in the balance here with the two remaining seats in the US Senate. If Republicans retain those two seats in Georgia, the tax threat will lessen. There will still be a giant problem with spending though. I fear that enough Republicans will want to spend more money that the debt is just going to keep piling up and piling up and all this debt is a cost move to young people in the future. I’ll end with this. There’s something that people often don’t think about with all this debt. It is all a cost move forward on the young people in the future.

The government has had all these trillions of dollars of extra stimulus bill this year, to supposedly fight the recession and the like. But people forget that young people in the future will have their own crises in America. We may have other health crises or natural disasters down the road. So young people in the future are going to have their own disasters to pay for and we are asking them to pay for our disasters as well, by moving all this cost of debt onto them. It’s incredibly unfair what we’re doing with all the debt with moving this cost forward.

Bob Zadek: It is a profound moral issue and one that is never addressed when politicians give lip service to reducing the deficit. No politician ever ran on a platform of reducing the debt. That used to be a bedrock of conservative Republican Party planks, but no more. There is nobody left to run, who runs on a platform of living within our collective means. Now, the answer, as Chris said, is not to raise taxes. Raising taxes will have a long term damaging effect. It’ll kill the golden goose, it’ll kill the economy as you tax the producers.

Corporate Taxes: Clearing up the Confusion

Bob Zadek: Now, Chris, you have mentioned something that is one of my very favorite tax discussion concepts. We didn’t discuss this when we prepared for the show but I’d like to mention it and get your quick thoughts. You mentioned that Biden’s plan is, among other things, to raise the corporate income tax. It is bedrock core principles when anybody says let’s tax the rich, that they say, “let’s tax American corporations.” That’s like the placeholder for “tax the rich.”

If you tax a corporation it does not solve the problem. When you tax a profit-making enterprise, it becomes a cost, like rent or salaries. Since businesses are determined to make a profit, they will simply build in that cost into their product, which means corporations never pay taxes. They pass along the cost in the product. If you tax auto companies, you are taxing auto buyers, you’re taxing consumers. If you tax food companies, you’re taxing people who buy food. Statistically the lowest 25% of earners in this country bear a disproportionately high burden of corporate taxation through the pass-through. The last politician to discuss eliminating the corporate income tax as a disguise tax on low income consumers was Steve Forbes a long time ago. Comment on the insanity of having a corporate income tax to begin with. It is cowardice because you are taxing consumers but not directly.

There is general agreement amongst economists of all political persuasions that the corporate tax will result in lower returns to shareholders, lower wages for workers or higher prices for consumers. In a global economy, economists are generally agreeing more that the burden actually probably mainly lands on workers, meaning that corporations will need to earn a certain return. They can’t raise prices, because we have a competitive consumer market. Ultimately, they have to lower wages for workers. That’s probably where most of the burden of the corporate tax lands.

Chris Edwards: Earlier you said something which is important. You talked about Ireland. Industry today is mobile. Most industries are service industries, computer industry, industries that can frankly be located anywhere. You can set up a semiconductor chip manufacturing plant in Ireland or China or Malaysia or Vietnam. Because of that, raising taxes on higher earners on capital gains on corporations will induce more and more investment to go abroad. So we just shoot ourselves in the foot. You are absolutely right that the corporate tax burden ultimately lands on individual Americans, so it’s kind of just a shell game the federal government is playing. The higher you raise taxes on corporations, the more of them will move abroad. The federal government raises very little on corporations. I have the numbers in front of me here. So the federal government in 2021, will raise 3.3 trillion in taxes. Only 120 billion of that will come from corporations. Why? Because corporate profits are tiny compared to individual income. The federal government raises the vast majority of its income from individual income taxes and payroll taxes. The left wing rhetoric that we are going to solve our deficit problem with raising corporate taxes is total nonsense because we hardly raise any from corporations because the corporate tax base is so small and very mobile. So that whole discussion is very deceptive. Look at the Congressional Budget Office data and see that corporate income taxes are very small.

A Call for Transparency in Taxation

Bob Zadek: Since the only real taxpayers are consumers, ultimately we pay all the taxes, not businesses. I imagine a world where we as consumers got one bill from the federal government and one from the state government. Here is your pro-rata share of running our operation. Your tax bill is $58,000. That is instead of a sales tax, which is buried. Consumers just realize their food and their clothing costs eight or nine or 10% higher, which you don’t notice. If you would look at a utility bill, you would see how much of that cell phone bill is various taxes. To you, cable is expensive and cell phones are expensive. I mentioned corporate income tax and tariffs and airline travel. All of these have embedded costs involved, which to us are product costs. But no, there’s a big tax component. I would pray for every consumer getting one bill, where this is your share of the government, and there will be a Second American Revolution rebelling against the high costs. Government has been very skillful at having others be its tax collector, so they get the heat and not the government.

Chris Edwards: I agree with you entirely that taxes are the price of government and that price should be labeled clearly and transparently. You go into a grocery store into Walmart and everything is labeled clearly. We should have that with the government too. S I think a big reform thing about the federal and state levels is eliminating all these excess tax bases we don’t need. So for states, for example, which have both an income tax and a retail sales tax you eliminate one of the taxes. So Washington State, for example, just has a sales tax and not an income tax. That’s a good system. Oregon just has an income tax and not a sales tax. That’s a good system. So I think we should try to eliminate these excess tax bases, simplify and make transparent and visible taxes so that people can see the burden of the government. I entirely agree with you about that.

Bob Zadek: Chris, how can our friends follow your writing at Cato?

Chris Edwards: All my writings are under Chris Edwards at Cato, and you can follow me on Twitter. Our website, has all my writings about all the federal programs we need to cut and why we need to cut them. People can email me. My email is on the Cato site.

Originally published at on December 16, 2020.



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